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What is Brexit and why it matters

20 June 2016 in Trading Ideas

This week, millions of eyes are going to focus on the UK as Brits hold a vote on whether Britain should remain in or leave the European Union (EU) this Thursday, June 23. British, Irish and Commonwealth citizens who are registered to vote ultimately have the power to decide Britain’s fate.

What is Brexit?
This possibility of Britain’s exit from the EU has been coined with the term Brexit, a mash-up of the words “Britain” and “exit.”

Many UK citizens are unhappy with the current state of their economy and the amount of control the EU has over their lives. Uncertainty, however, remains about how many Britons on both sides of Brexit will be motivated enough to participate in the referendum.

One thing is certain: Prime Minister David Cameron promised UK citizens during the 2015 general election that he would ensure the people would get to vote on Brexit if elected and he has kept his word.[1] If Britain successfully votes in favor of leaving the EU, it would be the first country to exit, taking its $3 trillion economy with it.[2]

Why are Brexit supporters eager to leave the EU?
Many Brexit supporters believe that the UK’s economy is better off without the EU. In addition, supporters of Brexit feel the EU inflicts too many rules on residents and businesses that effectively hold them back from achieving their full economical potential.

Productivity growth in the UK has been notably lower than the U.S., Germany and France since the great recession, even with similar economic conditions.

Click to enlarge.

productivity slowdown UK

Average annual output per hour was close to zero between 2009-14 and has only recently started to increase. Source: IMF

Britain’s exit would mean the UK could save roughly $9 billion in annual EU membership dues. That’s a significant savings that could help propel Britain’s economic growth in the long-term. In addition, Britain would have the opportunity to eliminate expensive environmental and labor regulations required by the EU. Enforcing any type of major change takes time, however, with an independent UK, perhaps changes may occur quicker.

Immigration is another key reason many residents in the UK want the Commonwealth to exit the EU. Brexit supporters feel the EU’s immigration plans pose a threat to the UK’s sovereignty and want to regain full control of its borders.

The high cost of consumer goods across the region has also fueled many citizens to want out. For example, consumer goods are estimated to be 20 percent higher in Europe than in world markets. The BBC reports an exit from the EU could lower prices in the UK by roughly 8 percent.[3]

How likely is Britain to exit the EU?
Global stocks rallied Monday after polls showed support for staying in the EU.

A recent poll of 2,000 people performed by ORB for The Independent found that 55 percent of participants want the UK to exit the EU and 45 percent believe it should remain. This shows an increase in Brexit support as the prior poll that was performed in April was nearly split down the middle with just 51 percent in favor of an exit.[4]

Whether or not the results of the June survey could prove true in the actual referendum remains uncertain. Voter turnout is a critical concern. In The Independent’s poll, 78 percent of Brexit supporters said they plan to vote compared to only 66 percent of Remain supporters. Applying the likelihood of each group’s turnout to the actual referendum adjusts the results to 53 percent in favor of an exit and 47 percent in support of staying put.

An interesting generational divide was found in the study. Amongst those aged 18-24, 70 percent want the UK to remain in the EU. The results for participants aged 55 and over were almost the exact opposite with 64 percent in favor of an exit. As for geographical insights, most regions of the UK are leaning towards an exit except for Scotland, which has a 60 percent backing to remain in the EU.[5]

What might be some economic consequences if Brexit is approved?
Even if Brexit is approved, Britain would not be able to leave the EU immediately. Under Article 50, a two-year notice is required to officially exit the EU. During that period many negotiations and agreements would have to be reached. The consultancy PWC estimates that it would take about four years for the UK to officially exit if Brexit is approved.

Click to enlarge.

Brexit timeline

A formal exit for the UK, if approved, may not occur until 2020. Source: PWC

One of the challenges Britain could face if an exit occurs are high duties on exports to EU countries. Approximately 51 percent of British goods exports are sent to EU countries.[6] A slowdown in exports to its biggest market could put a lot of pressure on businesses. The UK’s main export partners are Germany, the U.S. and the Netherlands.[7] Imports from EU countries would also become more expensive. Close to seven percent of EU goods exports are sent to Britain.[8]

If the British referendum results in an exit, the effects could be felt wide spread in the UK and around the world. Janet Yellen, Federal Reserve Chair, said a British exit from the EU could have “significant economic repercussions.”[9] Short-term rises in unemployment and declines in the UK’s stock market are predicted, which could also create a ripple effect on the U.S. economy. The outcome of the referendum is likely to influence whether or not the Fed decides to raise U.S. interest rates in the coming months.

Among those who oppose Brexit include President Obama, the leaders of Germany and France, while banks like Goldman Sachs, Morgan Stanley, JPMorgan and Citi have donated funds to anti-Brexit campaigns. Outside of Wall Street, BMW, General Motors, Ford and Caterpillar have have expressed objections to Brexit. [10] [11]
Famed investor George Soros is also concerned about the ramifications of Brexit, telling WSJ, “If Britain leaves, it could unleash a general exodus, and the disintegration of the European Union will become practically unavoidable.” According to Forbes, Soros has been actively trading recently. He placed a sizeable derivatives investment against the U.S. stock market and increased positions in the SPDR Gold Trust (GLD), Barrick Gold (ABX) and other defensive names.[12]

Possible winners and losers
Although it is impossible to predict the immediate and long-term effects of a British exit from the EU, there are bound to be both winners and losers. The likely results are highly debated but here are a few possibilities that might result.

Losers

  • Workers employed in Britain could face changes to some or all of their current EU mandated employment benefits such as anti-discrimination laws, paid annual leave and rights for part-time workers.[13]
  • Prime Minister David Cameron believes Brexit would reduce tax receipts and make it more difficult to fund British priorities. Public schools and the National Health Service (NHS), both funded by taxpayers, could face cutbacks if the UK enters into a recession. Lower and middle-class families could be hit the hardest.[14]
  • The EU would lose Britain’s sizeable membership contributions and need to find alternative sources of income. Germany would likely suffer greatly and face higher dues to support financially weak countries such as Poland and Greece.
  • International banks could face losses. Banks such as Goldman Sachs (GS) and Deutsche Bank (DB) with UK offices might feel compelled to downsize or relocate offices from London’s financial hub to other cities located in the EU such as Frankfurt.
  • Other international companies with offices, distribution centers and plants located within Britain such as Nissan Motor Co Ltd. that sell to a lot of EU consumers could also decide to leave the UK and relocate elsewhere in the euro-zone.
  • UK unemployment could rise as some speculate roughly 1 million jobs could be lost if Brexit occurs.[15]

Winners

  • A weakened British pound could boost corporate margins for a select few. For example, UK companies in the luxury market that manufacture locally but are highly focused on global consumers, such as Burberry, might benefit from Brexit. Barclays estimates that a 10 percent decline in the pound could increase Burberry’s sales by a fifth. Only about 10 percent of the Burberry’s sales are from the UK.
  • Other companies that could benefit from a weak pound include Victrex, a chemical company based in northern England, which exports close to 97 percent of its goods. Technology company ARM Holdings is another Its headquarters is located in the UK but the company primarily sells to the U.S.[16]
  • The head of Austrian Erste Bank’s eurozone economics team, Gudrun Egger, believes that the eurozone could experience a slight acceleration in GDP growth in 2017 if member countries welcome production facilities relocating from the UK.[17]
  • UK housing prices could experience a decline and help homebuyers enter the market at lower prices.[18]

Do you think Britain should remain in or exit the EU?

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[1] Wheeler, Brian, Alex Hunt, “The U.K.’s EU referendum: All you need to know,” BBC News, June 9, 2016.

[2] Tully, Shawn, “The European Union is in big trouble,” Fortune, June 1, 2016.

[3] Wheeler, Brian, Alex Hunt, “The UK’s EU referendum: All you need to know,” BBC News, June 9, 2016.

[4] Grice, Andrew, “EU Referendum: Massive swing to Brexit – with just 12 days to go,” The Independent, June 10, 2016.

[5] Ibid.

[6] The Data Team, “A background guide to “Brexit” from the European Union,” The Economist, February 24, 2016.

[7] EUROPA, “United Kingdom,” EUROPA, 2016.

[8] The Data Team, “A background guide to “Brexit” from the European Union,” The Economist, February 24, 2016.

[9] Pramuk, Jacob, “New ‘Brexit’ poll shows Brits leaning toward leaving, hits markets,” CNBC, June 10, 2016.

[10] Wheeler, Brian, Alex Hunt, “The UK’s EU referendum: All you need to know,” BBC News, June 9, 2016.

[11] Tully, Shawn, “The European Union is in big trouble,” Fortune, June 1, 2016.

[12] Gara, Antoine, “Famed for breaking the British Pound, billionaire George Soros returns as a Brexit bear,” Forbes, June 9, 2016.

[13] Boulton, John, “Winners and losers from the EU and Brexit,” The Guardian, June 7, 2016.

[14] Gutteridge, Nick, “Mapped: The real winners and losers from the EU,” Express, June 8, 2016.

[15] Neuhaus, Andreas, Rabea Hashagen, “Brexit: The winners and the losers,” DW, 2016.

[16] Wilmot, Stephen, “Brexit: Winners from the plunging pound,” The Wall Street Journal, June 13, 2016.

[17] Oprita, Antonia, “If Brexit wins, here’s what investors should do,” The Street, June 16, 2016.

[18] Munchau, Wolfgang, “If Brexit wins out, let Britain go in peace,” The Financial Times, June 12, 2016.

Tags: Brexit
  1. Eggsterguy
    22 Jun at 5:15 am

    Of course the big banks favor Remain. They are Bilderbergers. They want one world government. Time and events have proven that multi nationalism, like socialism, fails. Culture, sovereignty, and property rights always prevail.

    Reply
  2. Jake
    22 Jun at 6:42 am

    I think they should vote themselves out and feel the pain of doing so. Then they’ll try and get back in after stocks tank, uncertainty rises, unemployment rises, and then will feel more appreciative and team oriented in the future. Need to suffer first to get better.

    Reply
  3. Bill
    22 Jun at 8:01 am

    Britain should leave the EU. There is no substitute for freedom, independence, and control of these important factors. Only the big guns profit from staying in the EU. The hell with them and up with the people for once.

    Reply
  4. Janay
    17 Jul at 11:42 pm

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    Reply

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